4. Market failure

Allocative efficiency

A state of the economy in which production is in accordance with consumer preferences; in particular, every good or service is produced up to the point where the last unit provides a marginal benefit to society equal to the marginal cost of producing it

Lack of public goods

goods that are of benefit to society, the lack of public goods in a free market would be considered market failure

Public goods

A good or service that is characterized by non-rivalry and non-excludability; a good or service with these characteristics would not be provided in a free market (market failure) and are therefore provided by the government. eg flood barriers, national defense

Quasi public goods

public goods that could debatabely exist in a free market (e.g. street lighting, light house)

Non rivalrous

the consumption of the good by one person does not keep other people from also consuming that good.

Non excludable

impossible to exclude individuals from consumption

Government intervention with public goods

1. may provide the good themselves (use taxpayer money)

2. subsidize companies to produce good

Under Supply of Merit Goods

lack of consumption of a good that has a positive benefit to society = market failure

Merit goods

goods that would be under-provided in a free market economy (e.g. healthcare and edu, health facilities, the opera). goods the government thinks have benefits to society all public goods are merit goods

Government intervention with Merit Goods

1. depending on important government will attempt to increase supply and thus consumption, if the good is very important (edu and healthcare) the government may subsidize it completely/provide directly, if less important than subsidized left all subsidies paid by tax payer's anyways

Over supply of demerit goods

over consumption of goods with a negative effect on society = market failure

Demerit goods

goods that will be over-provided by the market and, because of this, will be over-consumed. goods that the government thinks are bad for both people and society, and thus will attempt to decrease consumption (e.g. smoking, alcohol, child pornography, junk food, hard drugs)

Externality

A cost or benefit of a good or service that is not included in the purchase price of that good or service (to a third party)

Marginal private benefit

The extra benefit or utility to the consumer of consuming an additional unit of output.

Marginal private cost

the cost of producing an additional unit of a good or service that the consumer of that good or service received.

Marginal social cost

The extra cost to society of producing an additional unit of output, including both the private cost and the external costs.

Marginal social benefit

The extra benefit or utility to society of consuming an additional unit of output

MPC

essentially the private supply curve that is based on the firms costs of production

MPB

essentially the private demand curve that is based on the utility or benefits to consumers

Negative Externality

A 'bad' cost imposed without compensation on third parties by the production or consumption of sellers or buyers. eg. effects of smoking on third party

Welfare loss

loss of economic welfare because of a decrease in producer or consumer surplus; occurs when a market is not in equilibrium

Negative Externality of Production (External Costs)

when the production of a good or service creates external costs that are damaging/harmful spill-overs to third parties (e.g. pollution from factories)

Government intervention for Negative Externality of Production

1. Tax the firm to shift supply line to desired allocative efficient quantity. if externality fixed = internalized (problems with taxing: hard to measure pollution, hard to place monetary value on pollution, tax no reduce pollution).

2. Government could legislate/ban (pass laws regulating output) problems: may lead to job loses and non consumption of valuable product, and may be expensive to police law

3. issue tradable emission permits

tradable emission permits

licenses to emit limited quantities of pollutants that can be bought and sold by polluters (AKA Cap and Trade)

cap and trade scheme

A scheme in which a government authority (of a single country or group of countries) sets a limit or 'cap' on the amount of pollutants that can be legally emitted by a firm, set by an amount of pollution permits distributed to firms; firms that want to pollute more than their permits allow can buy more permits in a market, while firms that want to pollute less can sell their excess permits.

carbon taxes

A tax on fossil fuels (especially coal and gasoline) based on their emissions of CO2 and other air pollutants.

Negative Externality of Consumption

when goods consumed create a harmful spillover effect to third parties (e.g. second hand smoke, pollution)

Gov Intervention with Negative Externalities of Consumption

1. Ban the good. Problem: most these goods addictive, and getting addicts to vote against may be hard to do)

2. Place partial ban instead (regulating where smoking is allowed)

3. Tax the good (shift supply line to meet allocative efficient quantity supplied) problem: if product is inelastic, tax will not reduce consumption (perk: great income for government), but it may deter non addicts, and if taxes are too high = emergence of black/foreign markets

4. provide edu/advertise against the good, problem: costly and may only effect in long run

Positive externalities

a benefit obtained without compensation by third parties from the production or consumption of sellers or buyers. Example: A beekeeper benefits when a neighboring farmer plants clover. An external benefit or a spillover benefit.

Potential welfare gain

gain in economic efficiency that could occur if production or consumption can be increased to the pareto optimal level of output (MSB = MSC)

Positive Externalities of Production (External Benefits)

when production of good or service creates external benefits that are good for third parties (e.g. employee training, ecotourism)

Positive Externality of Consumption

when the consumption of a good or service provides an external benefit to third parties (e.g. school, healthcare, use of deo)

Government Intervention Positive Externalities of Consumption + problems

1. Subsidise or provide completely. problem: very expensive, developing countries may not afford

2. advertise to increase consumption. problem: high cost and may be more effective long run than short run, must weigh out benefits

3. pass laws insisting on use. problem: infringement of civil liberties

Direct provision

(a governmental arrangement) government provides a public service directly

Sustainable development

Development that meets the needs of the present without compromising the ability of future generations to meet their own needs.

Tragedy of commons

states that individuals acting independently and rationally according to each's self-interest behave contrary to the best interests of the whole group by depleting some common resource

Sustainable Development Threats

MARKET Failure!

1. poverty

2. fossil fuels

3. green house gases

Private goods

Goods that are both excludable and rival in consumption, paid by consumer for own personal use

Market failure

when there is a misallocation of resources in the price mechanism - when resources are not allocated to the best interests of society

5 types of market failures:

• Externalities

• under-provision of public goods

• Information gaps

• Monopolies

• Under and over supply of merit goods/demerit goods

Externalities (4 of them)

• positive production

• positive consumption

• negative consumption

• negative production

Allocative efficiency

A state of the economy in which production is in accordance with consumer preferences; in particular, every good or service is produced up to the point where the last unit provides a marginal benefit to society equal to the marginal cost of producing it

Lack of public goods

goods that are of benefit to society, the lack of public goods in a free market would be considered market failure

Public goods

A good or service that is characterized by non-rivalry and non-excludability; a good or service with these characteristics would not be provided in a free market (market failure) and are therefore provided by the government. eg flood barriers, national defense

Quasi public goods

public goods that could debatabely exist in a free market (e.g. street lighting, light house)

Non excludable

impossible to exclude individuals from consumption

Under Supply of Merit Goods

lack of consumption of a good that has a positive benefit to society = market failure

Merit goods

goods that would be under-provided in a free market economy (e.g. healthcare and edu, health facilities, the opera). goods the government thinks have benefits to society all public goods are merit goods

Over supply of demerit goods

over consumption of goods with a negative effect on society = market failure

Demerit goods

goods that will be over-provided by the market and, because of this, will be over-consumed. goods that the government thinks are bad for both people and society, and thus will attempt to decrease consumption (e.g. smoking, alcohol, child pornography, junk food, hard drugs)

Government intervention with demerit goods

attempt to decrease consumption by:

1. if really important they will make illegal or ban (e.g. hard drugs and child pornography)

2. if less important they will tax it (cigarettes and alcohol)

Marginal private benefit

The extra benefit or utility to the consumer of consuming an additional unit of output.

Marginal private cost

the cost of producing an additional unit of a good or service that the consumer of that good or service received.

Marginal social cost

The extra cost to society of producing an additional unit of output, including both the private cost and the external costs.

Marginal social benefit

The extra benefit or utility to society of consuming an additional unit of output

MPC

essentially the private supply curve that is based on the firms costs of production

MPB

essentially the private demand curve that is based on the utility or benefits to consumers

Negative Externality

A 'bad' cost imposed without compensation on third parties by the production or consumption of sellers or buyers. eg. effects of smoking on third party

Welfare loss

loss of economic welfare because of a decrease in producer or consumer surplus; occurs when a market is not in equilibrium

Negative Externality of Production (External Costs)

when the production of a good or service creates external costs that are damaging/harmful spill-overs to third parties (e.g. pollution from factories)

Government intervention for Negative Externality of Production

1. Tax the firm to shift supply line to desired allocative efficient quantity. if externality fixed = internalized (problems with taxing: hard to measure pollution, hard to place monetary value on pollution, tax no reduce pollution)

2. Government could legislate/ban (pass laws regulating output) problems: may lead to job loses and non consumption of valuable product, and may be expensive to police law

3. issue tradable emission permits

tradable emission permits

licenses to emit limited quantities of pollutants that can be bought and sold by polluters (AKA Cap and Trade)

cap and trade scheme

A scheme in which a government authority (of a single country or group of countries) sets a limit or 'cap' on the amount of pollutants that can be legally emitted by a firm, set by an amount of pollution permits distributed to firms; firms that want to pollute more than their permits allow can buy more permits in a market, while firms that want to pollute less can sell their excess permits.

carbon taxes

A tax on fossil fuels (especially coal and gasoline) based on their emissions of CO2 and other air pollutants.

Negative Externality of Consumption

when goods consumed create a harmful spillover effect to third parties (e.g. second hand smoke, pollution)

Gov Intervention with Negative Externalities of Consumption

1. Ban the good. Problem: most these goods addictive, and getting addicts to vote against may be hard to do

2. Place partial ban instead (regulating where smoking is allowed)

3. Tax the good (shift supply line to meet allocative efficient quantity supplied) problem: if product is inelastic, tax will not reduce consumption (perk: great income for government), but it may deter non addicts, and if taxes are too high = emergence of black/foreign markets

4. provide edu/advertise against the good, problem: costly and may only effect in long run

Positive externalities

a benefit obtained without compensation by third parties from the production or consumption of sellers or buyers. Example: A beekeeper benefits when a neighboring farmer plants clover. An external benefit or a spillover benefit.

Potential welfare gain

gain in economic efficiency that could occur if production or consumption can be increased to the pareto optimal level of output (MSB = MSC)

Positive Externalities of Production (External Benefits)

when production of good or service creates external benefits that are good for third parties (e.g. employee training, ecotourism)

Government Intervention Positive Externalities of production + problems

1. Subsidise. problems: expensive and difficult to estimate value of subsidy needed, (subsidy = opportunity cost)

2. provide vocational training (in the case of employee training) problem: expensive and may not work, but great effect on PPC and economy

Positive Externality of Consumption

when the consumption of a good or service provides an external benefit to third parties (e.g. school, healthcare, use of deo)

Government Intervention Positive Externalities of Consumption

1. Subsidize or provide completely. problem: very expensive, developing countries no afford,

2. advertise to increase consumption. problem: high cost and may be more effective long run than short run, must weigh out benefits)

3. pass laws insisting on use. problem: infringement of civil liberties

Direct provision

(a governmental arrangement) government provides a public service directly

Sustainable development

Development that meets the needs of the present without compromising the ability of future generations to meet their own needs.

Sustainable Development Threats

MARKET Failure!

1. poverty

2. fossil fuels

3. green house gases

Private goods

Goods that are both excludable and rival in consumption, paid by consumer for own personal use